Moody's Downgrades Five Dutch Banks By 1-2 Notches

While we await the Moody's downgrade of the Spanish banking system, which we can only attribute to a lack of outsourced Indian talent, since three banks are now rated higher than the sovereign, Moody's decided to give a little present to our Dutch readers by downgrading 5 of their biggest banks: Rabobank Nederland, (2 notches to A2) for ING Bank N.V., (2 notches to A2) for ABN AMRO Bank N.V. (2 notches to A2), and for LeasePlan Corporation N.V. (2 notches to Baa2). The long-term debt and deposit ratings for SNS Bank N.V. were downgraded by one notch to Baa2. And yes, this means that the US banks (looking at your Margin Stanley) are likely next.

The long-term debt and deposit ratings for four groups declined by two notches: to Aa2 for Rabobank Nederland, to A2 for ING Bank N.V., to A2 for ABN AMRO Bank N.V., and to Baa2 for LeasePlan Corporation N.V.. The long-term debt and deposit ratings for SNS Bank N.V. were downgraded by one notch to Baa2. The short-term ratings for all aforementioned groups are unchanged.

Concurrently, Moody's has assigned stable outlooks to the ratings for four of the aforementioned groups, while assigning negative outlooks to the ratings for ING Bank N.V. and its related entities.

Today's actions reflect Moody's view that Dutch banks will face difficult operating conditions throughout 2012 and possibly beyond. Furthermore, the Dutch banks affected by today's actions have structural features which, while not new, heighten risks for creditors amidst elevated uncertainty and downside risks to the economic outlook and fragile investor confidence in Europe. With today's rating actions, Moody's is giving greater weight to these features in assessing the overall risk profile of these institutions, consistent with its previously-announced analytic approach (see "European Banks -- How Moody's Analytic Approach Reflects Evolving Challenges", 19 January 2012, http://www.moodys.com/research/European-Banks-How-Moodys-Analytic-Approa...).

Specifically, the main drivers underlying today's rating actions on Dutch banks are as follows:

(i) Adverse operating conditions, including the current recession and declining house prices in the Netherlands, will likely persist at least through 2012. Moreover, the Netherlands, as a euro area member deeply integrated within the EU, is affected by the ongoing euro area debt crisis and regional economic weakness. Economic weakness limits household incomes and business earnings, which will likely adversely affect credit costs and profitability for banks.

(ii) The Dutch banks affected by today's rating actions have characteristics that render them more vulnerable in the current environment, including structural reliance on wholesale funds and large mortgage books. Wholesale funding is susceptible to changes in investor confidence, while high real estate exposures leave banks sensitive to potential deterioration in loan performance given declining real estate collateral values. Moody's recognises, however, that Dutch banks have generally retained good access to market funding, and asset quality remains sound to date.

In addition, Moody's assumptions about the availability of government support for ABN AMRO have declined slightly, reducing the support-driven uplift factored into the long-term debt and deposit ratings for the bank to three notches (previously four). Support-driven ratings uplift for ABN AMRO is now more in line with other systemically-important European banks. Support-driven ratings uplift for the other four Dutch groups downgraded today is unchanged.

More detail on bank-specific rating drivers is discussed below.

The revised rating levels also take into account several mitigating factors, including (i) the large Dutch banks' strong, sustainable domestic franchises; (ii) improved regulatory capitalisation; and (iii) relatively stable pre-provision earnings. Moody's also recognises that the domestic environment for Dutch banks has weakened less compared with more stressed euro area countries, given the strong credit profile of the Dutch government (rated Aaa, with a stable outlook).

Following today's downgrades, the average asset-weighted deposit rating for Dutch banks is between A1 and A2 (closer to A1), but still ranks in the upper range among European banking systems. The average asset-weighted standalone credit assessments is between a3 and baa1 (closer to baa1), also in the upper peer range.

The stable rating outlooks for four of the five Dutch banking groups downgraded today express Moody's view that currently foreseen risks to creditors are now reflected in these ratings. Nevertheless, negative rating momentum could develop if conditions deteriorate beyond current expectations. Specifically, Moody's has factored into the ratings an increased risk of an exit of Greece from the euro area, but this is currently not the central scenario. If a Greek exit became Moody's central scenario, further rating actions on European banks could well be needed.

The negative rating outlooks for ING Bank and its related entities take into account the bank's specific funding structure, which substantially relies on wholesale funds and which has a significant proportion of non-domestic deposits. Under a stressed scenario, some of these non-domestic deposits could, in Moody's view, become less fungible as national regulators focus on safeguarding local liquidity.

RATINGS RATIONALE -- STANDALONE CREDIT STRENGTH

- FIRST DRIVER: ADVERSE OPERATING CONDITIONS WILL LIKELY PERSIST

The Dutch economy is currently in recession and Moody's expects Dutch real GDP to contract by 0.6% in 2012 overall (see Sovereign Country Credit Statistical Handbook, 31 May 2012, http://www.moodys.com/viewresearchdoc.aspx?docid=PBC_141528). As an open economy deeply integrated within the EU, the Netherlands is affected by regional economic weakness and by the increased risk of additional shocks emanating from the ongoing euro area debt crisis.

In addition, housing prices in the Netherlands have declined since 2009 after more than a decade of steady growth (source: Dutch Central Bank). As a result, the value of real estate collateral backing domestic housing loans is declining. Amidst the current recession, bankruptcies have also risen to the highest level since 1993 (source: Central statistical office of the Netherlands), posing a risk for banks' lending to small and mid-sized enterprises.

Furthermore, Dutch households have some of the highest debt levels among western European countries, at 127% of GDP and almost 250% of gross income at year-end 2010 (source: Eurostat). Moody's recognises that Dutch household loans, including banks' large residential mortgage books, have shown resilient performance to date; however, highly indebted Dutch consumers are vulnerable to the possibility of a prolonged recession.

- SECOND DRIVER: BANKS HAVE STRUCTURAL FEATURES THAT LEAVE THEM VULNERABLE TO PREVAILING ELEVATED RISKS AND UNCERTAINTY

As stated, the Dutch banks affected by today's actions have structural features that, while not new, exacerbate risks for bank creditors in the current difficult environment. Specifically, the large mortgage books of Dutch banks have historically contributed to low and relatively stable loan losses; however, amidst the current recession and declining housing values, this large sector exposure may lead to elevated losses if the so-far modest deterioration of housing loans accelerates. Besides their large household mortgage portfolios, several Dutch banks are also active in commercial real estate (CRE) lending. Collateral values for these loans have declined in recent years together with commercial property prices (source: DNB/International Monetary Fund).

Another key vulnerability of Dutch banks is their structural reliance on wholesale and non-domestic funding sources to finance a portion of their core domestic lending. This reliance renders banks vulnerable to potentially sudden changes in market confidence amidst the adverse and highly uncertain European operating environment. Indicating a gap in retail funding, the loan-to-deposit ratio of ING Bank, Rabobank, ABN AMRO and SNS Bank ranged between 122% and 162% at year-end 2011 (source: Moody's computation based on company reports), above the levels of many international peers. In addition, under a stressed scenario, non-domestic deposits of Dutch banks could, in Moody's view, become less fungible, because national regulators increasingly focus on safeguarding local liquidity.

These concerns are partly mitigated by the success of Dutch banks in accessing capital markets on reasonable terms recently, and by their ability to maintain or increase average debt maturities and grow deposits.

Dutch banks' strong and sustainable domestic franchises are a source of steady pre-provision earnings. These earnings provide a buffer to absorb losses and underpin the continued high ratings for the leading Dutch banks relative to many of their European peers. Dutch banks also recorded solid net profits in 2010 and 2011, bolstered by low loan-loss provisions, although credit costs may increase going forward.

Another mitigating factor is the improved regulatory capitalisation of most banks, which have increased significantly in recent years. However, Moody's notes that banks face only small capital charges against their large residential mortgage books, which carry low regulatory risk weights. If the historically strong performance of these loans deteriorated significantly, banks would have only limited equity cushions and reserves to absorb any losses exceeding their earnings.

RATINGS RATIONALE -- LONG AND SHORT-TERM DEBT AND DEPOSIT RATINGS

The long-term debt and deposit ratings for four of the five Dutch banking groups downgraded today continue to be positioned above their standalone credit assessments, reflecting Moody's assumption of a high likelihood of systemic support, if needed.

The debt and deposit ratings of ABN AMRO now benefit from three notches of government support-driven ratings uplift (vs. four notches previously). The revised ratings uplift is more in line with other European banks and reflects the clear intent of the Dutch government to sell its ownership stake.

The debt and deposit ratings for Rabobank, ING Bank and SNS Bank continue to benefit from two notches of support uplift. The debt and deposit ratings for LeasePlan do not incorporate any uplift, as its smaller size and international business model make it less systemically important.

RATINGS RATIONALE -- SUBORDINATED DEBT AND HYBRID RATINGS

In addition to the above-described rating actions, Moody's has today downgraded the subordinated debt ratings of four Dutch banking groups by up to five notches, following the removal of systemic support for these securities and the respective reductions of the banks' standalone credit assessments. The removal of support for this debt class reflects Moody's view that, in the Netherlands, systemic support for subordinated debt is no longer sufficiently predictable and reliable to warrant incorporating uplift into Moody's ratings. (For more detail, see 29 November 2011 announcement "Moody's reviews European banks' subordinated, junior and Tier 3 debt for downgrade" - http://www.moodys.com/research/Moodys-reviews-European-banks-subordinate....)

Furthermore, Moody's downgraded today the junior subordinated debt ratings of Rabobank by two notches to Baa1(hyb), reflecting the securities' junior ranking compared with subordinated debt and the lowering of the bank's standalone credit assessment.

WHAT COULD MOVE THE RATINGS UP/DOWN

The current rating levels and outlooks incorporate a degree of expected further deterioration. However, the ratings may decline further (i) if operating conditions worsen beyond current expectations, notably if the economic environment encountered material negative pressure, leading to asset-quality deterioration exceeding current expectations; or (ii) if Dutch banks' market funding access experiences a significant decline; or (iii) if earnings or asset quality deteriorate sharply.

Rating upgrades are unlikely in the near future for banks affected by today's actions, for the reasons cited above. A limited amount of upward rating momentum could develop for some banks if the relevant bank substantially improves its credit profile and resilience to the prevailing conditions. This may occur through increased standalone strength, e.g. bolstered capital and liquidity buffers, work-out of asset-quality challenges or improved earnings. Improved credit strength could also result from external support, such as a change in ownership or an improved likelihood of systemic support.